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When Paul S. Otellini wraps up his eight years at the top of
IntelINTC 0.16806722689075632%Intel Corp.U.S.: NasdaqUSD35.76
0.060.16806722689075632%
/Date(1481308708525-0600)/
Volume (Delayed 15m)
:
7329686
P/E Ratio
16.85141509433962Market Cap
169182303615.57
Dividend Yield
2.9111266620014% Rev. per Employee
539860More quote details and news »INTCinYour ValueYour ChangeShort position
this coming May, he will leave on somewhat of a high note. He has presided over a 56% surge in revenue and a 46% climb in operating profit during that stretch.

Yet the world's largest chip maker is facing serious challenges. As smartphones and tablets increasingly displace personal computers, Intel's revenue growth is expected to slip from 24% last year to a decline of 1% this year and perhaps 2% growth in 2013.

At a recent price of $19.36, Intel shares (ticker: INTC) reflect that somber outlook; they're down some 23% since we ran a bullish story six months ago ("Why Intel Deserves Another Look," May 28).

Whether Intel's stock can rally in 2013 may hinge upon how successfully it deploys its manufacturing expertise to make chips for other companies, rather than on how well it pushes its own chips. That's a big shift in strategy—and one fraught with challenges—but it looks increasingly necessary.

Worse, Intel has won only a handful of smartphone contracts, all of them overseas, giving it no standing in the key North American market. Today's dominant chips for both phones and tablets, be they the custom-designed variety from Apple and Samsung, or off-the-shelf parts such as Nvidia's, are based on designs by rival
ARM Holdings
(ARMH).

But even if Intel can get more traction in these new markets, it will face another problem: making up for lost revenue. Smartphone and tablet chips sell for just tens of dollars, versus an average exceeding $100 for Intel's PC processors. "If the PC market falters at all, it's hard to see how you can replace that revenue—it's just not there with smartphones," says the Linley Group's principal analyst, Linley Gwennap.

To make up the balance, Intel must seriously consider doing what it has refused to do, which is to open its factories to producing chips for other chip companies, sacrificing the pre-eminence of its "X86" software, the code that has been at the heart of its microprocessors for decades. With Apple in and out of court with Samsung, which mass-produces Apple's chip designs for a fee, Apple could very well entertain taking some of its business to the more hospitable environs of Intel's factories.

Otellini, meanwhile, exits with Intel still dominating the most advanced semiconductor manufacturing technologies. One of his great accomplishments has been to press on with development of "Tri-gate," a novel three-dimensional transistor that lowers chips' power consumption and puts Intel years ahead of the competition.

Whether Intel can turn marvels like Tri-gate into a broad-based manufacturing businesses may depend on whether it can convince rivals to trust it with manufacturing their chips. It also requires Intel to devote capacity it would normally use for its expensive chips to the lower revenue that such contracts would yield.

For all its prowess, that is a major challenge, and making the shift won't be easy, by any means. The stock will struggle to record gains until it's clear Intel can make the leap. So, if you don't own the shares, avoid them for now. If you do, hold them—they pay a 4% dividend, after all—but be watchful.